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‘The market’s priced Value Group at low margins’

We recommend investors accumulate this counter – Intellidex.

Ballooning operating costs and stunted revenue growth have seen Value Group investors take a massive hit. Over the past two years the share price has lost more than 50% amid a disproportionate increase in labour, maintenance and shrinkage costs.

Simultaneously, the economy has been struggling with business being difficult to come by as reflected in the disappointing top-line growth. The operating margin has been in a tailspin since FY12 and has halved to 5%. This margin deterioration has been highly correlated to the fall in the share price.

However, management has embarked on a restructuring exercise to streamline costs. There is evidence of that move bearing fruit in the interim results to end- August. Notwithstanding insignificant revenue growth, cost of sales has actually fallen and operating costs grew at a slower pace than FY15.

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Although revenue edged up a pedestrian 2% (FY15: 3%), cost of sales actually fell 3% for the interim period to end-August. This is due to a number of cost- saving initiatives in the previous year that are starting to bear fruit.

Savings were realised in labour, fuel and maintenance. While operating costs are still disproportionately high, largely attributed to employment costs, their 5% growth is slower than FY15’s 10%. But savings at trading level saw a 75% jump in operating profit to R28m. These savings also trickled to the bottom line where headline earnings climbed 124% to 11c/share. The interim dividend was maintained at 5c/share.

Because of tough trading conditions we believe that in the short term value will emanate from the cost-saving exercise and that the operational strategy to curtail its cost base will pay off and margins will improve. We think the market has priced this counter at its prevailing low margins.

Although management is optimistic that it will reach an equilibrium operating margin of 11%, we are more cautious having reviewed the group’s ten-year performance and we thus used a more conservative margin in our projections. Even with the conservative assumptions, Intellidex’s discounted cash-flow valuation model still suggests upside potential of 29%.

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The company has a target debt:equity ratio of between 40% and 60%. Given that this ratio is marginally below target, it is highly probable that management will repeat a share buyback. Also, management informs us that the group remains focused on its acquisitive growth strategy by constantly seeking businesses that not only complement but also diversify revenue streams. These strategies are supported by its decent cash pile and comfortable gearing.

Value has a lower PE (6.9) than the industry average (10.4) and a decent dividend yield of around 4%. It is also priced below its book value. We recommend that investors accumulate this counter.

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Bull factors

  • Cost-containment strategy starting to pay-off
  • Low gearing and decent cash pile bode well for acquisitive growth
  • Low oil prices 

Bear factors

  • Poor economic outlook
  • Weak rand and inflationary pressures counter cost-containment strategy

 

Nature of business: Value Group and its subsidiaries provide a range of tailored logistical solutions in southern Africa. Its major operating divisions specialise in diversified supply chain services encompassing distribution, transport, clearing & forwarding, warehousing, fleet management, forklift and commercial vehicle rental and leasing

Analyst: Phibion Makuwerere, CFA; Editor: Colin Anthony

Disclosures: The analyst has no financial exposure to the instrument discussed. The opinion represents his true view. For Intellidex’s full disclaimer, please click here.

 
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